Don’t Be Fooled By Its Low Yield — Costco Is a Great Dividend Stock

Warren Buffett may have sold his stake in Costco Wholesale (NASDAQ:COST). But after declaring a $10 special dividend on Monday, Costco is looking like an even better investment. Let’s take a look at Costco’s business and dividends.

Special times call for special dividends

It was surprising that Buffett’s Berkshire Hathaway sold all of its Costco shares last quarter. However, the legendary investor may have his own reasons that don’t apply to the individual investor. Costco has an excellent, differentiated business model with solid growth and a strong trajectory going forward. That makes it a great candidate for a long-term portfolio.

Customers pay an annual fee of $60 for a basic membership and $120 for an executive membership for the privilege of shopping at the company’s large warehouses and taking advantage of their low prices. Member retention is strong, at around 90% in a typical quarter, and Costco also gains millions of customers annually.

Woman with a mask putting grocery packages in a car.

Image source: Getty Images.

Costco has been one of the big winners during the pandemic as people spent their money on essentials. The company closed some of its non-essential departments — like travel and hearing aids — during lockdowns, but sales for the fiscal third quarter (which ended in early May) increased 7.3%. Sales rose 12.5% during the fiscal fourth quarter, which ran through late August.

Costco ended the fourth quarter with over $12 billion in cash and equivalents and is spending $4.4 billion on the special dividend.

Investors who believe will be rewarded

Not only is the company having a great year, but the special dividend yields 2.6% for investors. Costco doesn’t have a high regular dividend. It’s just $0.70 per share quarterly, yielding 0.73% at the current price. But Costco increased the quarterly dividend by $0.05 per share this year and raises it annually. Including the special dividend, the annual 2020 yield is 3.4%, higher than companies known for their dividends, like Coca-Cola, whose stock yields 3.1% right now. It’s also well above the S&P 500 average yield of 1.8%.

Costco paid out $7.00 per share special dividends in 2012 and 2017 and a $5.00 per share special dividend in 2015. CFO Richard Galanti said in the announcement on Monday: “Costco will continue to be in a financial position to take care of our employees, enhance the value of the Costco membership, and create shareholder value over the long term.”

Someone in suit with handful of hundred dollar bills

Image source: Getty Images.

More where that came from

Costco operates 802 warehouses, with 558 in the U.S. and the others in many global locations. It also has e-commerce businesses in several of its global markets. Digital sales rose 91% in the fourth quarter ended Aug. 30. For comparison’s sake, Walmart operates over 5,000 stores in the U.S. alone. Costco is planning to open 20 new stores (net of relocations) in fiscal 2021. Right now, it doesn’t even have a store in every state, giving it lots of future expansion potential.

The discount giant reported 17% sales growth in September and 16% in October, and investors can expect to see continued growth. When will Costco pay the next special dividend? On average, it has paid special dividends every two or three years, and if the company keeps up its performance, it’s likely to distribute some more of that wealth to shareholders.

But Costco is a great stock beyond its special dividend. Shares are up nearly 30% in 2020 and have gained 121% over the last three years. With its unique, popular store model and room for expansion, Costco has the potential to increase sales and pay more special dividends in the future for investors who hang on.

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